The marijuana taxes in Washington and Colorado measure only dollar prices. Those taxes may be counterproductive, and sometimes manipulable.

Washington's law puts a 25 percent tax on the dollar value of marijuana sales three times: first, when and if a producer sells to a separate processor; second, when a processor sells to a retailer; and third, when a retailer sells to a consumer.

A dollar-based tax fluctuates with prices. It is highest at the worst time, before efficiencies and economies of scale bring dollar prices down -- when legal operators are just starting out. That start-up phase is just when industry needs taxes to be lowest -- to fight a price war with bootleggers who won't give up easily.

Colorado is collecting two taxes. One, a retail tax, parallels that third Washington tax: When a retailer sells to a consumer, Colorado collects a 10 percent tax. The other tax, earlier in the supply chain, is a wholesale tax that pretty much combines Washington's producer and processor taxes.

Colorado's Constitution allows a wholesale tax of 15 percent of dollars. But the bulk of marijuana sales in Colorado have no wholesaler even in the picture. These are direct grower-to-consumer sales. No dollars change hands until the consumer comes in. So there is no wholesale price to measure 15 percent of. The 15 percent wholesale rate just plain doesn't work as a percentage tax. So Colorado, de facto, has substituted per-gram taxes. Details below.

The Second Wave - Grams

Percentage of price appears passé. Legalization proposals in California to tax by dollar price all failed to make the 2014 ballot. The current wave of marijuana legalization proposals taxes at wholesale by weight -- grams, ounces or pounds. Weight is something we can reliably measure. If there's a dispute about how many grams something weighs, we can settle it on the spot, and pronto.

Here's where it gets interesting. That Alaska initiative would allow a lower rate "for certain parts of the marijuana plant."

Taxing different parts of the plant differently brings us back to Colorado, where that is happening already. Replacing its failed 15 percent tax, Colorado collects two different per-gram wholesale tax rates. The tax on smokeable "bud" or "flower" -- the potent nugget packed with intoxicant THC -- is 62 cents a gram. Colorado's tax on the rest of the plant, call it "trim" or "leaves," is 10 cents a gram. Those less valuable leftovers are what gets processed -- kind of boiled down -- into "concentrates," put into e-joints, balms or edibles like cookies or oils.

In other states, Legislators and initiative drafters are following Colorado's lead by lining up to tax bud and trim at different rates. Rhode Island Senate Bill 2379 taxes "dried flowers" -- bud -- at $1.76 per gram, and "all other parts" of the plant at 35 cents. The prominent New Approach Oregon proposal, too, would tax trim at 35 cents per gram, while taxing bud at $1.23.

This is a new world. Is there a real incentive to put bud in the trim box? Can folks agree on the spot on what's bud and what's trim? Or will they need to go to court? Will random audits and replays of video surveillance make any cheating a losing bet?

If the bud-trim line is not clear enough, a line between raw plant matter and processed material might work. That line shows up in New York Senate Bill 6005, where plant matter would be taxed at $1.76 a gram, and "concentrated cannabis" at $7.05.

Whether any of these tax experiments will succeed, or, indeed, whether any of the larger legalization experiments themselves will succeed, remains to be seen. Even with a weight tax base, rates need to be calibrated. And adjusted nimbly.

The Third wave - THC

We tax liquor by potency -- alcohol content. One day, we may figure out how to tax marijuana's intoxicant, THC, directly. But maybe never for raw material, whether bud or trim.
Raw material is not homogeneous -- each little speck has different properties and strength. So we can't measure THC of raw material in a way that's close enough for the government work of collecting precise taxes. THC in marijuana is like tar and nicotine in tobacco. Tar and nicotine taxes on cigarettes make sense in theory, but they have been tried, and have failed.

But concentrates, in liquid form, are a different story. They are more homogeneous. Technology and standards to measure THC in concentrates are not here yet, but they are imaginable. THC content could be the third, and maybe final, wave of marijuana taxes.

--

It's hard to look at this early history without optimism for America. The Founders emphasized spreading power around -- among three federal branches, and between federal and state governments. As a result, "a single courageous State may ... serve as a laboratory; and try novel social and economic experiments." In Washington and Colorado, the experiments are underway.

For now, no one knows for sure which ways are best to tax -- or handle -- marijuana. We are not even at the end of the beginning.]]>Marijuana Revenue: Oregon 2014tag:www.huffingtonpost.com,2014:/theblog//3.49954272014-03-20T13:42:16-04:002014-05-20T05:59:01-04:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/failed to act. So November voters may get to choose between legalization initiatives with dueling revenue ideas. The Control, Regulation, and Taxation of Marijuana and Industrial Hemp Act (CRTMIHA) puts marijuana commerce in the hands of private sellers -- and taxes it modestly. The Oregon Cannabis Tax Act of 2014 (OCTA) lets the state make big profits from monopoly sales.

Why different taxes for flowers and trim? Flowers contain more THC, marijuana's primary intoxicant, than trim, so they bear more tax. That's like the federal alcohol tax: An ounce of hard liquor contains more alcohol than an ounce of beer, so it bears more federal tax. And the higher the proof (alcohol percentage) of liquor, the higher the federal tax. So why not just tax THC content directly, like alcohol in whiskey? Because marijuana is not homogenous enough. Different testing labs report wildly different amounts of THC from similar samples. CRTMIHA's different rates for flowers and trim may be a good proxy for taxing THC.

Per-ounce wholesale taxes of $17.59 for flowers and $2.78 for trim -- and a $9 seedling tax -- are already being collected in Colorado. Those Colorado per-ounce rates are lower than CRTMIHA's, but Colorado adds a separate, lucrative retail tax, projected to bring in more revenue than its wholesale taxes. CRTMIHA's tax burden on marijuana seems modest -- and it will be less, in percentage terms, than total Oregon and federal taxes on cigarettes. Tax burdens in Oregon, once enacted, can't go up without 3/5 supermajorities in both Houses of the Legislature. But low taxes at first can help legal operators win the inevitable price war against entrenched bootleggers -- if not against tax-free medical marijuana.

OCTA takes a completely different approach. Forget "Tax" in the title "Oregon Cannabis Tax Act"; revenue would instead come from profits from monopoly sales of marijuana by the state.

OCTA's monopoly plan starts with, but improves on, a 2012 predecessor Initiative that failed. That 2012 Initiative included a deal-killer for cautious voters: On a seven-member Commission selling marijuana and setting prices, "licensed growers and processors" would have had five seats. Henhouse, meet fox. That industry-controlled Commission was criticized, and even ridiculed. Still, 47 percent of Oregon voters said yes to that sketchy 2012 Initiative.

This year's OCTA eliminates that problem of industry domination. There's still a Commission with seven members, but now the governor appoints all seven, for short-fused, one-year terms. For the common good, that's going from an F to an A.

There's still a major problem with OCTA, though. The Initiative calls on the Commission, a state actor, to sell marijuana. Possessing and selling marijuana are still illegal under federal law. Under OCTA, the state would be violating federal law itself -- just as if state employees filled in federally protected wetlands. To be sure, the federal government likely wouldn't prosecute state agents for selling marijuana. But courts could find that the Commission's operations preempt federal law -- and block them. Because of federal illegality, no U.S. state even lets its laboratories perform tests on marijuana; no other state is thinking of hiring cashiers to sell it.

But OCTA's conflict with federal law could be toned down. It turns out that amending laws passed by initiative in Oregon is relatively easy. (Some other states can't change initiative-passed laws without a legislative supermajority, a waiting period, or a voter approval.) If OCTA 2014 passes, the Legislature could address the problem -- by stopping state sales. It could remove the functions of possessing and selling from the Commission, and transfer them to contractors. The seven-member Commission could still set prices. Constitutionally, that plan may be no more provocative than the local marijuana taxes collected in Oakland, California, since 2010, and the state excises already collected in Colorado this year.

In any event, OCTA is unusually generous to the public: Of every dollar paid by consumers for retail marijuana, Oregon gets 85 cents, and private contractors, chosen by that seven-member Commission, get 15 cents. If you put that state share in terms of a tax rate, it's 85 percent of the total after-tax price, up there in the range of cigarette tax rates in Europe. It's way above the marijuana rates in Colorado and Washington.

Will OCTA prove too generous? Even if the state can shut down flagrant bootlegging, competition from untaxed, legal medical marijuana could make collecting so much revenue an uphill battle. The Legislature may have to come to the rescue.

We are just starting to look at the menu of options for marijuana revenue. In Oregon in 2014, CRTMIHA's private enterprise plan offers voters a taste of revenue, while OCTA's monopoly promises a banquet. But whatever voters order, they may find that the Oregon Legislature eventually decides to cook up something else instead.]]>Marijuana Taxes in Colorado -- An Early Cluetag:www.huffingtonpost.com,2014:/theblog//3.49147632014-03-06T21:13:09-05:002014-05-06T05:59:02-04:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/eyeing tax revenue from legalized marijuana. Colorado and Washington are each officially expecting over $100 million annually in marijuana excise taxes. In a few days, the Colorado Department of Revenue is due to report how much marijuana tax was paid there for January, the first full month of recreational sales anywhere ever.

But the report on January collections will tell us next to nothing about what other states can expect, and only a little about Colorado. You can multiply January taxes by 12, but that won't show annual marijuana revenue the state can count on from now on -- for two reasons. First, the mature market will not resemble the start-up January market. Second, Colorado will start taxing some transactions that it exempted in January.

Start-up Uncertainties

In future months, Colorado's industry will probably sell more grams of marijuana than it sold in January, but at lower prices. More grams will pull taxes up. Lower prices will push taxes down. It's not clear where taxes will end up.

Some background: Colorado's Constitution calls for two recreational marijuana taxes -- a 10-percent retail tax, and a 15-percent wholesale tax. With those percentage taxes, lots of grams of pot sold at high prices mean lots of tax is collected. If the number of grams goes down, or if prices go down, less tax is collected.

The number of grams for sale in January was low. As the month began, few stores were open -- but now more stores are opening all the time. Even the stores that were open experienced a "valley of supply," as they geared up and struggled to meet demand. That low supply won't last long, but fewer grams of marijuana were sold in January than in a normal month. Fewer grams pushed January tax collections down.

A maturing industry will not just sell more units -- it will also charge lower prices. Think cell phones and large screen TVs.

Indeed, prices in January seemed abnormally high. And not just because of low supply. Prices tend to go up as demand goes up. A one-time spike in demand may have helped boost January's prices. A spike could have come from customers buying several months' supply in advance or from tourists flying in for the grand opening in record numbers -- maybe unsustainable numbers. In any event, January's high prices benefited tax collections.

So in January, it looks like low supply and maybe high demand pulled prices up, but low supply restricted the number of grams sold -- with opposing effects on tax collections. Sales in grams will increase before long, and prices will drop. The net effect on tax collections is not clear.

Of Colorado's two recreational marijuana taxes, the 10-percent retail tax got collected in January -- no problem. But Colorado's nominal 15-percent wholesale tax was not collected on lots of marijuana sold then. That failure to collect happened because of a temporary hole in the wholesale tax.

Here's the deal: On January 1, recreational pot sales became legal. So did pot growing. But marijuana doesn't mature in a day. Would customers have to wait for plants to grow? No. On January 1, there were lots of medical marijuana businesses in Colorado. (Medical marijuana remains tax exempt.) By Colorado law, only medical marijuana businesses could open up new recreational businesses at first. Regulators allowed "one-time transfers" of marijuana on hand (in inventory) from medical businesses to allied recreational businesses. That way, pot shops had something to sell on January 1.

It turns out that those "one-time transfers" escaped the wholesale tax. The tax statute just didn't catch it. Technically, the wholesale tax is "imposed at the time when the retail marijuana cultivation facility [RMCF] first sells or transfers unprocessed retail marijuana." And the RMCF is the only possible taxpayer for the wholesale tax, the statute says. No RMCF, no tax. A medical marijuana business -- the "one-time transferor" in January -- is not a RMCF. Oops, says the tax collector. Bingo, says the industry. (To be fair, this tax break comes at an opportune time for the legal industry. The industry needs to win a price war against bootleggers, who have not gone away. To win that war, the legal industry needs low prices at first. Temporary tax relief can help offset growing pains.)

Now this hole in the tax will soon close up. Soon, recreational businesses will use up their "one-time transferred" stashes, so then all recreational marijuana will bear wholesale tax. Colorado's official revenue estimators know this. They predict that wholesale tax collections will indeed grow disproportionately faster than retail tax collections.

++++++

We can't be sure how much marijuana revenue Colorado can count on in the long run. Start-up uncertainties create confusion, and a hole in the wholesale tax makes January collections uncharacteristically low. In the grand scheme, newly legalizing states could compete with Colorado and reduce its tax collections. A federal crackdown could wipe collections out. January 2014's tax number will provide a clue about long-term, sustainable revenue, but just a clue. Future monthly collections could turn out much lower, much higher, or about the same. We have a lot to learn.]]>Marijuana Taxes: Time Will Telltag:www.huffingtonpost.com,2014:/theblog//3.48584052014-02-26T12:41:48-05:002014-04-28T05:59:01-04:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/what to expect.

In Colorado, the number jumped by 60 percent, from $67 million to $107 million. That's for the first fiscal full year of marijuana excise taxes. The old, lower number came from the Legislature last August; the new, higher one came from the Governor on February 18.

In Washington, the number collapsed from $1.6 billion to $129 million -- a drop of over 90 percent. Oops. Those numbers are for marijuana excises by the end of Fiscal 2017. The old, higher number came from a criticized 2012 legislative estimate; the new, lower, more plausible one came from the state's official Forecast Council on February 19.

That's confusing. But even comparing the official forecasts is confusing. The numbers above are just for excise taxes. Colorado's wholesale excise tax rate is 15 percent; its retail rate is 10 percent. In Washington, both those rates are 25 percent, and a third 25-percent tax, on producer sales, sometimes applies, too. In comparing estimates for excise taxes apples-to-apples style, there are lots of oranges to ignore, in the form of ordinary sales taxes, license fees, business and occupation taxes, out-year projections, dedicated uses, and more. In Washington, for instance, over 80 percent of marijuana excises are sent straight to health care, substance abuse, public health and other programs -- and never enter the General Fund.

Tougher than interpreting what the States report, the real work of predicting the future and estimating marijuana revenue involves a host of imponderables. To start with, excise taxes don't apply to medical marijuana -- at least for now. So any consumer who qualifies as a "patient" avoids taxes. Meanwhile, bootlegging will not dry up overnight, and revenue collections depend on law enforcement's willingness and ability to crack down on illegal sales.

As time goes on, competition from other, newly legalizing states could reduce tax receipts in Colorado and Washington. A federal crackdown on all state-legal marijuana could make taxes vanish completely.

Market maturation is bound to bring more uncertainty. Tax receipts in both Colorado and Washington are tied to pre-tax marijuana prices, and receipts may suffer as prices decline. Eventually, pre-tax prices will deteriorate as costs drop. Businesses will move up the learning curve and new efficiencies will develop. Marijuana companies will experiment and improve; nonrecurring startup expenses for professional fees and the costs of raising capital will be fully amortized; new market entrants will create more competition and more supply.

Those price declines will mean less revenue per ounce sold, since taxes are a percentage of price. But more ounces will probably be sold legally and thus taxed -- for two reasons. First, lower prices will attract consumers. Second, bootleggers, still paying the extra costs of sneaking around, won't be able to match legal prices. So bootlegging will fade away. But it's hard to say how soon all this might happen. And will higher volume at lower prices bring more tax revenue, or less? It could go either way.

That's a lot of uncertainty. But can Colorado and Washington collect the revenue they expect by adjusting to changing market conditions?

Colorado's Taxpayer Bill of Rights ties its Legislature's hands: No tax increase without a referendum. (Ordinarily, there isn't much hurry, but the marijuana market might evolve quickly.)

Washington can be more nimble. The Legislature can amend voter-passed initiatives, like the new marijuana law, sooner or later. For two years, two-thirds of each House must agree, but after that, it's majority rule. Washington might adjust not only tax rules but also market size -- and charge what the market will bear.

Meanwhile, seeking more certainty, serious proposals for legalization in 2014 -- bills in Maine, Maryland, New York, and Rhode Island, and an initiative in Alaska -- take another approach. They would tax marijuana by weight. Taxing by weight instead of percentage of price avoids automatic revenue loss as prices go down. That takes away some of the uncertainty -- but hardly all of it.

For the time being, as estimates fluctuate and as markets evolve, we are in the dark. It could be years before we know how much sustainable revenue to expect in the first two legalizing states. Still, states that have waited may get a clearer idea of just how to legalize -- and what revenue to expect -- as the experiments being conducted in Colorado and Washington begin to show results.]]>How Not to Tax Marijuanatag:www.huffingtonpost.com,2014:/theblog//3.47390092014-02-07T15:18:16-05:002014-04-09T05:59:01-04:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/whether to legalize, but how. Here are three tax mistakes that California and other states can still avoid.

Mistake 1. Collecting late

Alcohol and tobacco taxes get collected right up front, at the beginning of the supply chain, as product leaves the plant. The main federal and state taxes get collected then and there. Sure, at retail checkout, some states collect another tax, but that is just a sales tax -- no more than the tax you pay on shoe strings or key rings. The targeted vice tax was collected already.

Though Colorado and Washington tax recreational marijuana at the wholesale level, they are both counting on retail taxes for most of their marijuana revenue.

The reason all the main alcohol and tobacco taxes are collected ASAP, before a retail sale, is to prevent leakage during the supply chain. When tax is paid at the bottling or manufacturing plant, shoplifting at the retail store won't beat it. The store clerk who pilfers, gives a friend a break, or makes an honest mistake is way too late to beat that tax. And in the middle of the supply chain, when a truck driver alleges that his whole load was hijacked, his company may suffer, but the taxman has already been paid. "Collect early" is the first lesson in Excise Tax 101.

Colorado and Washington will collect some retail taxes, because not everyone will cheat - but that late tax net is porous. Some revenue will escape.

Mistake 2. Taxing manipulable price

We tax alcohol by gallons and tobacco by pounds. For liquor and wine, we factor in potency - percentage of alcohol. Volume and weight are easy to measure. So is alcohol content. Today, taxpayers don't go to court to fuss about the size of a shipment leaving the plant. The facts and the tax are obvious.

But so far, Colorado and Washington are trying to tax only by percentage of price. That's easy, and quick. Setting up weigh stations and testing facilities would take time. And they mean more government - which many in the marijuana community, driving legalization, feel justified in distrusting.

Price, though, unlike weight, can get slippery. For instance, what if the stated, manipulated price is . . . zero? What's the tax then? Hotel rooms featuring free marijuana are already popping up. Don't be surprised to see "expensive" e-marijuana vaporizers sold in a package with "free," highly potent cartridges. Tax-free? No way. How much is the tax? There'll be an argument.

The killer problem comes when a garden-to-customer business owes a wholesale price-based tax. Colorado is struggling with that today. There is no wholesale sale, so somebody has to make up a "transfer" price to tax. That's crazy. Accountants, economists, lawyers, and judges will have to sort out transfer prices again and again. Arguing about transfer prices is how fabled tax wizards make the big bucks.

That's the kind of free hand that untried taxes need. Marijuana prices could collapse. Free to innovate, the industry will drive down pre-tax prices as economies of scale kick in. But an order of magnitude greater is the "prohibition premium" - the compensation for risk, which drove illegal prices so high. That will go to zero. Ultra-low prices could bring a backlash or federal intervention as product leaks out of state or to kids.

Amending Washington's initiative, during the first two years, requires a 2/3 supermajority - not a major obstacle if consensus for a fix develops. But Colorado's Taxpayer Bill of Rights famously requires November votes on legislative tax increases.

At the beginning of a voyage into unexplored territory, putting the ship on autopilot with the throttle and the wheel locked in place for years might lead to . . . shipwreck.

+++++

What about this year's crop of marijuana revenue proposals? Some ace the test, avoiding late retail collections, price manipulation, and rigidity. Bills in Maine, Maryland, New York, and Rhode Island - and an initiative in Alaska - tax at the wholesale level by weight, and don't tie lawmakers' hands. That's 3 for 3 right. But the most prominent California initiative, The Control, Regulate and Tax Marijuana Act, would tax only at retail by percentage of price, and would freeze taxes through 2022. That gets everything wrong: 0 for 3.

We are just figuring out how to legalize marijuana. Some legalization plans will work, but some won't. We can follow, adapt, or learn from models for tobacco and alcohol - which we've been forming and reforming since Colonial times. That way, we can at least avoid making the same old mistakes over and over. We'll be making plenty of new ones.]]>Rocky Reefer Roll-out: The Right Tax Lessontag:www.huffingtonpost.com,2013:/theblog//3.45252382014-01-02T17:40:51-05:002014-03-04T05:59:02-05:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/prices may soar in the first hours of legalization in Colorado as pent-up demand meets gearing-up supply. Those high prices include new state taxes at both wholesale and retail levels. Are those inflexible taxes so high that they will undermine a sustainable market -- and threaten legalization itself? Well, it's complicated.

To paraphrase an old story, two men, disagreeing about marijuana taxes, agreed to go to the rabbi for help in figuring out the situation. The first man arrived and said to the rabbi, "Please read my paper, 'Marijuana taxes will be too high.'" The rabbi read the paper and said, "My friend, you are right."

Later in the day, the other man arrived, saying to the rabbi, "Please read my paper, 'Marijuana taxes will be too low.'" The rabbi read the second paper and said, "You are right."

Later, the rabbi's wife, who had overheard all this, said to him, "Rabbi, you told both men that they were right. This cannot be." To which the rabbi replied, "You are right, too. And they will both be wrong -- as the market develops and as events play out."

"At first," the rabbi continued, "marijuana taxes will overly burden the legal industry as it competes with bootleggers. In the early days, legitimate start-ups will struggle with unfamiliar problems, pay one-time expenses to get licenses and acquire capital, and make expensive mistakes that they won't make again. As legalization begins, even pre-tax prices will be high, and adding inflexible taxes will just make things worse. Tax-evading bootleggers will undercut legal prices.

"Later, in a mature marijuana market, today's tax rates will be too low. In time, innovation, the profit motive, and economies of scale will kick in. Pre-tax prices will then collapse. Absent a big tax rate increase, the resulting super-low total price will provoke worried parents and even the federal government, concerned about interstate leakage as well as youth use."

Figuring out how to handle and tax a newly legal intoxicant is not easy. (Avoiding tax conundrums, Uruguay is instead legalizing with a nimble state monopoly.) Around 1600, when tobacco first came to England, King James I didn't know what to do. His tax rate per pound zigzagged from 2 pence up to 78 pence -- and then back down to 12 pence. A newly legal marijuana market will probably be just as puzzling.

King James could impose taxation without representation. Legislatures do not act so nimbly, even at best. Colorado's Legislature can't increase taxes without voter approval, thanks to the state's Taxpayer Bill of Rights. And Californians may follow Colorado's lead in tying the hands of Legislators. In California, "The Control, Regulate, and Tax Marijuana Act" initiative would limit, until 2022, the tax burden on marijuana. And that burden would be lower than the total (state and federal) taxes cigarettes bear. Under California law, only another voter referendum could undo the freeze to provide needed flexibility.

Maybe the proposed California ballot initiative, which could be well-funded, will allow victory at the polls. But in Oregon in 2012, despite the tide that legalized marijuana in Colorado and Washington, an overly pro-marijuana-industry initiative failed at the ballot box. If California voters think a tax freeze through 2022 overreaches, that freeze may prove counterproductive for legalization advocates. Or maybe the threat of that inflexibility will force the hand of the slow-moving California Assembly and produce a sustainable legislative solution to the marijuana problem at last.]]>Colorado's Crazy Marijuana Taxtag:www.huffingtonpost.com,2013:/theblog//3.42211532013-11-07T15:14:57-05:002013-11-07T15:15:02-05:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/taxing wholesale marijuana sales at 15 percent -- when no wholesaler exists. That's right: Most Colorado adult-use marijuana sales must go directly from producer to consumer with no wholesaling allowed, and no wholesale price as a measure for the wholesale tax! That's because Colorado law, at least at first, requires vertical integration of marijuana businesses.

Vertical integration? Here's an example: A wine company owns land, vines and a winery, and sells to consumers only at its own outlet store. Substitute "marijuana grow area" for land and vines, "marijuana production facility" for winery and "marijuana retailer" for outlet store, and you understand the Colorado model. Colorado law will require that at least 70 percent of marijuana sales follow that model, with the supply chain integrated vertically (from top to bottom) -- and with no wholesaler.

Basing a tax on a fictitious price means no one will ever know the correct tax. Taxpayers will spend time and money trying to beat the system, and government will spend time and money in self-defense. Government and business are likely to grow irritated with one another as they argue about unanswerable questions.

Our dysfunctional international income tax system should have taught us that taxing what we can't measure is crazy. Multinational corporations like Google, Amazon and Starbucks pay little tax anywhere as they transfer assets among subsidiaries. What do they charge themselves for those assets? (How much does the right hand charge the left hand?) Current transfer pricing rules allow multinational corporations to construct artificial prices for sales between related parties, sales that almost never occur in the marketplace. "Fabled tax wizards" working for multinationals come up with a "tax return position" -- the company's view of how much tax it should pay. (Not much, and often zero.) Why make the same mistake -- opening the door to artificial pricing -- in taxing marijuana?

Back to Colorado's tax mess, and its warnings: Vertical integration (the no-wholesalers rule), imposed by the Legislature in 2013, could coexist easily with a tax based on weight or potency. That is, to tax marijuana at so many cents per gram, you never need to know the price. But a price-based, wholesale level tax was locked into place by Colorado's 2012 initiative (which did not require, forbid or address vertical integration at all). Colorado's wholesale, price-based tax would be administrable without vertical integration, because without it, real, separate wholesalers want to receive high prices, and their real, separate customers want to pay low prices. With that tension, there's a real, bargained-for market price to base taxes on.

Meanwhile, Washington State's law taxes newly-legal marijuana at wholesale, too, but Washington avoids Colorado's problem by forbidding vertical integration -- so related-party sales can't happen. That is, wholesalers are separate from retailers, so the wholesaler will get an arm's length, fair market value price from the retailer. That means the Washington State price-based wholesale tax will be related to reality. No fuss, no muss.

We are just at the beginning of figuring out how to regulate and tax marijuana. Other states thinking about legalization need to study the primitive example of Colorado's tax, and avoid the pitfall. The obvious answer is to forget price and adopt a surer tax base like weight or potency, following Federal precedents for alcohol and tobacco. Or, if states want a price-based tax for some reason, they can delay measuring it until there's an actual arm's length sale to an unrelated party. But here's the clear lesson for future legalizing states: If you require or allow vertical integration, a wholesale tax on prices -- when there is no actual sale -- is crazy. It's the kind of tax whose only fans will be tax professionals, billing by the hour.]]>Taxing Marijuana: Four Questionstag:www.huffingtonpost.com,2013:/theblog//3.41281022013-10-20T16:09:35-04:002014-01-23T18:58:21-05:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/Whether to tax

Some think marijuana should bear no special taxes. Their theory will face voters next month in Colorado, where proposals to tax legalized marijuana 15 percent at wholesale and 10 percent at retail -- along with various local taxes -- are on the ballot. Those proposals face strong opposition. If they fail, marijuana will bear only regular sales taxes (2.9 percent at the state level).

It's hard to answer the "Whether" question without first looking at the other questions about taxation. Here goes.

How much?

To start with, taxes need to pay for the expenses of implementing and enforcing legalization. After that, taxes could bring political support by benefiting the public.

But taxes should stay low enough to put organized bootleggers -- tax cheaters -- out of business. A fixed tax rate may be too low at first as newly legal businesses pay extra, one-time costs to start up. That same fixed rate will make little sense as economies of scale push down pre-tax production prices -- to maybe as low as $20 or $25 an ounce. A flexible rate, like that timidly suggested in Denver, is the ideal.

Who benefits?

American consumers today reportedly spend around $30 billion a year for marijuana. That's a pot of gold. Where will that money go? Some of it could disappear. Consumers wouldn't mind a price cut, naturally enough. But their main complaint is illegality, not high prices. John Prine described marijuana prices this way: "You may see me tonight with an illegal smile. It don't cost very much, and it lasts a long while."

Ganjapreneurs -- producers and sellers of legal marijuana -- are lining up to share in that $30 billion (or whatever the number turns out to be). But tempering the profit motive may go a long way toward building public support - and toward addressing concerns of worried parents. Colorado's successful 2012 initiative enticed voters with taxes for school construction; Washington's helped a laundry list of programs. Marijuana revenue could go into the general fund, or allow cuts of unpopular taxes. There will never be a "right" way to split up the money.

How?

So far, taxes have been based on percentage of sales price. That's easy to calculate: It requires no weigh stations or product testing. But a percentage base is easy to get around. Free Joint Giveaways, like those designed to boost opposition to taxes in Colorado, would be tax free, since any percentage of zero is always zero. And how would anyone figure the tax on hotel stays bundled for one price with free marijuana? When the seller winks at the buyer when selling something for below its fair market price, it's hard for auditors to figure out its "real" price -- that's how Google, Starbucks, GE, and other multinationals make a laughing stock of international tax rules.

Price-based taxes will swing wildly up and down as an industry starts up and prices find equilibrium. That's not good. If we look for analogies, price is not the base for any federal alcohol tax. Taxes on liquor and wine depend on alcohol content; beer taxes depend on volume.

Taxing marijuana by weight would solve some problems, but powerful ounces would be taxed the same as weak ounces. Still, the choice for marijuana plant material is either price or weight: Taxes based on content of psychoactive THC (tetrahydrocannabinol) won't work. Test results are not replicable because the material is not fungible enough - not consistent in THC content. Liquids are fungible, though, so potency could be the tax base for oils -- marijuana concentrates.

Meanwhile, California localities tax growing area or excessive electricity use associated with indoor growing. And the Federal Tax Code uses an entirely different method to tax marijuana. Code section 280E taxes all federally illegal drugs by denying deductions not only for advertising and marketing, which parents dislike, but even for local fees and property taxes.

Whether, Reconsidered

Taxing marijuana is no easy matter, but tax-free marijuana could cause a voter backlash -- or intervention from a federal government worried about leakage to other states and underage users. The Colorado taxes on the November ballot will show what voters are thinking.

A state monopoly would be the most cautious approach to legalization, but states have steered clear of selling through state stores, which would directly violate federal law.

Also on HuffPost:]]>Marijuana Advertising: The Federal Tax Stalematetag:www.huffingtonpost.com,2013:/theblog//3.38103412013-08-25T17:48:52-04:002013-10-25T05:12:02-04:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/McClatchy headline. There's a conundrum: The state-legal marijuana industry (1) understands that a new federal excise tax would give it legitimacy, but (2) seeks repeal of the discriminatory Reagan-era statute saying that taxpayers "trafficking" in "narcotics" cannot deduct ordinary business expenses on their Federal income tax returns.

But that current no-tax-deduction rule makes marijuana advertising nondeductible - and that probably makes sense. For most proponents of marijuana legalization, advertising is a frill, not an essential. But for opponents of legalization, marijuana advertising is anathema.

Before looking at taxes, here's the marijuana legalization story. Twenty states have legalized medical marijuana; Washington State and Colorado have also legalized recreational marijuana. All state-legal marijuana sales are made by private taxpayers. That's because no state has copied the cautious state-store monopoly model that more than a dozen states use for liquor. That model, free of the profit motive, provides the least possible incentive for advertising -- and it's the model Uruguay is using for marijuana. But using the monopoly model would mean the state would sell marijuana itself and violate federal law -- which continues to outlaw marijuana.

Now for taxes, starting with income taxes: Criminals, those who want to avoid the fate of Al Capone, know to pay taxes even on illegal income. But when marijuana sellers (whose tax returns might discreetly say their business is "Herbal products") fill out their 1040s, they suffer a unique penalty: Federal Income Tax Code's section 280E says taxpayers "trafficking in controlled substances" get "no deduction" for any expenses beyond the cost of producing or buying inventory. They can't deduct perfectly normal selling expenses like travel, utilities, salaries, and advertising -- or even state taxes or fees paid to comply with the law and to file tax returns.

280E came into the Tax Code in 1982 when the pendulum of opinion was swinging wildly in favor of the War on Drugs, and when the Reagan Administration was getting all the credit for being tough. Bob Dole's Senate Finance Committee took notice of a Tax Court case that allowed a drug dealer to deduct travel expenses; without hearings, Congress passed 280E to make expenses of drug dealers nondeductible.

Other illegal activities -- prostitution, gambling, gun-running -- weren't touched: There is no deduction disallowance for them. They can deduct all their expenses, just as you or I can. Congress singled out drug sellers in 1982 to prove that it, like the Reagan Administration, was really mad at drugs. So state-legal marijuana is now treated like the hardest drugs - and the marijuana industry says "the federal tax situation is the biggest threat" it faces.

Scholars suggest that 280E, singling out a single activity for punishment, is an aberration. But as a practical matter, 280E's unique disincentive could make marijuana legalization more palatable to the public. Here's how: Because 280E discourages advertising and marketing, it reduces the ability of the industry to increase marijuana use by creating demand. Opponents of legalization vehemently object to advertising of marijuana on the grounds that it will stoke demand and that it will influence children. By encumbering marijuana advertising and marketing with the burden of non-deductibility, 280E curtails that advertising. In a limited and inadvertent way, 280E moves the legalization debate toward a middle ground.

Still, the industry says 280E is broken -- overbroad and discriminatory. So why not fix it?

This question is not just for the long term. Colorado's legislature has already repealed the state tax law that copied 280E. Other legal-marijuana states whose tax rules conform to the Federal Code may want to follow Colorado's lead.

What would a fix to 280E look like? While the industry would like repeal, maybe there's a middle ground, drawing bright lines between (1) expenses that tend directly to stoke demand for marijuana (disfavored) and (2) expenses that are existentially necessary for the operation of the business (acceptable).

To start with, advertising expenses would still be disfavored. Meanwhile, other expenses seem both necessary and totally disconnected from demand creation -- like a license fee paid to the state just for operating. Legal and accounting fees look acceptable, too (though lawyers and accountants sometimes stray into giving business advice).

But there are grey areas. Take rent, for instance. Retail space can be organized to stoke demand: The tobacco industry, banned from broadcast advertising, makes the experience of entering a convenience store a come-on. Square footage devoted to point-of-sale displays is professionally designed to entice buyers.

And what about salaries of retail clerks? Effective, motivated sales people can stoke demand. But legislators may be more concerned about creating jobs than about dampening demand for marijuana. So they could cap the tax deduction for pay to for sales people, say at the level of the minimum wage. That approach would tend to favor jobs -- and spread them around. So pay for successful, high-priced salespeople could be only partly deductible -- only up to $7.25 an hour, with the excess nondeductible. The possibilities are endless. A hodge-podge of rules reflecting conflicting policies -- like much of today's Tax Code - could result from an effort to fix 280E. So fixing 280E could prove too complicated.

How about the industry's proposal for a federal excise tax on marijuana? Already, Washington State and Colorado will explicitly impose excise tax on sales of the substance at so many cents on the dollar. The industry hopes for a federal excise tax on marijuana only if the tax is part of a deal that includes simultaneous and explicit federal legalization. But politically, federal legalization won't happen soon. There are too few Members of Congress willing to be seen helping the industry.

There's a tangential issue: If a new federal excise tax is part of a package containing explicit legalization, objections could arise under decades-old multilateral narcotics treaties that require us to outlaw marijuana. But 280E now is a penalty consistent with illegality of marijuana, so 280E raises revenue but doesn't violate treaties.

For now, Congress won't repeal or repair 280E -- Congress doesn't want to give the marijuana industry a tax cut. But the industry is right about one thing: If 280E is repealed, a Federal excise tax on marijuana will take its place. That change could mean a higher tax burden overall for the industry -- and loss of the useful anti-advertising bias of the law today.]]>A Way Past the Marijuana Dilemmatag:www.huffingtonpost.com,2013:/theblog//3.24907202013-01-16T17:51:25-05:002013-03-18T05:12:01-04:00Pat Oglesbyhttp://www.huffingtonpost.com/pat-oglesby/
The problem for the federal government is not so much what folks in two states out West might smoke; the real problem is cheap, state-legal marijuana flooding the country, especially from Colorado, where marijuana taxes are minimal. Legality allows economies of scale that will bring pre-tax prices crashing down.

An executive branch "Yes" to state legalization makes the threat of cheap marijuana nationwide obvious. But saying "No" might not work. Saying "No" would isolate the federal government, because it can't legally make a state return to banning possession. To enforce federal marijuana laws, a new federal police force would have to be brought into a state, and the cost of that single-purpose federal policing, in money and personnel, would be huge. Saying "No" would also shut down useful state regulation and taxation. And juries might hesitate to convict their neighbors who are prosecuted by the federal government while explicitly obeying state law.

But there's a middle ground. A strong federal marijuana tax could prevent cheap, legal product from spreading into the other 48 states. A high federal tax could give full rein to state taxes. That is, states could tax first and fully: That's what happened under the old "soak-up" federal estate tax credit for state inheritance taxes, when the federal government gave the states the right to a set amount of death tax, to take or leave. (They took it.) A cautious Congress could also add protective regulations to whatever Colorado and Washington come up with.

Marijuana legalization is not going away. The victories in Washington and Colorado made the headlines, but November also saw 46 percent of voters in Oregon support a ridiculous monopoly scheme that would have put all revenue and regulation in the hands of a Cannabis Commission controlled by growers and processors. The closeness of that vote proves that the tide has turned. More sensible plans are coming in other states. Soon.

How many billions of tax -- federal and state -- could the marijuana market bear? The official estimate for the new Washington state law is $564 million per year, or about $82 per resident -- not per consumer. Maybe that's off, but extrapolated nationwide, that would work out to about $26 billion. That figure is roughly in line with a $30 billion national marijuana retail market and a tax take of 80 percent of the retail price -- the burden of taxes on cigarettes in Europe. While $24 or $26 billion may not be the yearly tax inflow - who knows? -- marijuana revenue is nothing to sneeze at.

The administration's awkward dilemma -- and Congress's likely inaction -- may confirm the popular view that the government of the United States is, as Richard Nixon put it, "a pitiful, helpless giant." But as voters in Colorado and Washington have shown, the political ground can shift overnight.

Patrick Oglesby is a former Chief Tax Counsel of the U.S. Senate Finance Committee.]]>